Weighing the Week Ahead: A Three-Day Homestretch

Hurricane Sandy has been uppermost in everyone's concerns.  We have the greatest sympathy for those who have lost loved ones, homes, and businesses.  The effects of weather are often devastating in any setting.  Here in the midwest, it is often a tornado that strikes with little warning.  When a hurricane hits highly-populated areas, the effects are even greater.

One mission of the investment manager is to think about the financial effects and prospects no matter what else is going on.  We now have more clarity about this week's schedule, so I will do my regular preview of the upcoming abbreviated week.

I see this as a three-day homestretch leading to an important inflection point — next week's theme.  The key elements are the following:

  1. Continuing corporate earnings reports, where a mixed story continues;
  2. The looming concerns over the fiscal cliff, with increasing prominence and visibility;
  3. The election, with potential for significant change.

I'll offer my own take on these themes in
the conclusion, but first let us do our regular review of last week's

Background on "Weighing the Week Ahead"

are many good lists of upcoming events.  One source I
especially like is the weekly post from the WSJ's Market Beat blog.  There is a nice combination of data, speeches, and earnings reports.  Their schedule for this week has been thrown off, of course, but it is still valuable.

contrast, I highlight a smaller group of events.  My theme is an
expert guess about what we will be watching on TV and reading in
the mainstream media.  It is a focus on what I think is important
for my trading and client portfolios.

This is unlike my
other articles at "A Dash" where I develop a focused, logical
argument with supporting data on a single theme. Here I am simply
sharing my conclusions. Sometimes these are topics that I have
already written about, and others are on my agenda. I am putting
the news in context.

Readers often disagree with my
conclusions. Do not be bashful. Join in and comment about what we
should expect in the days ahead. This weekly piece emphasizes my
opinions about what is really important and how to put the news in
context. I have had great success with my approach, but feel free
to disagree. That is what makes a market!

Last Week's Data

Each week I break down events into good and bad. Often there is
"ugly" and on rare occasion something really good.
My working definition of "good" has two

  1. The news is market-friendly. Our personal policy preferences are not relevant for this test. And especially — no politics.
  2. It is better than expectations.

The Good

The economic news last week was mostly positive, including these highlights.

  • Obama's Hint.  During the last debate, President Obama basically dismissed the idea that the sequestration of defense funds would be allowed to happen.  This was read in different ways by different observers.  I think the outlines of a compromise are in place no matter who wins.  Here is a good account.
  • Forward earnings estimates are still strong.  Brian Gilmartin follows this trend, and also notes that we lack forward revenue estimates — the latest metric for the skeptic.  Brian is very objective in his reports, and he presents important data and ideas that you do not see elsewhere.
  • Economic growth measured by GDP beat expectations.  The 2% increase is certainly not consistent with the gloom of the recessionistas.  Some immediately noted the spike in defense spending (as if the Commander in Chief could orchestrate a big spending push).  Meanwhile, the drought subtracted about 0.4% from the GDP growth.  The defense spending may be uneven, but housing and more normal weather will help.  Scott Grannis notes that there is improvement, but that we are still well below trend.

Real GDP vs 3% trend

The Bad

The actual data last week was pretty good, but the stock result was
bad.  This happens, and it can be meaningful.  Let us take a closer

  • The revenue "beat rate" is terrible.   Earnings beats have been mostly in line with expectations, taking advantaged of reduced expectations, as usual.  Those who think that profit margins and cost savings are unsustainable have focused on revenues.  Bespoke's fine chart tells the story:



  • Pending home sales were disappointing.  I am scoring this as "bad" because that was the market reaction and the general commentary.  Calculated Risk is not as convinced by this particular data point.  Regular readers know that I favor building permits.  Interpreting housing data is a challenge on many levels, partly because of the continuing distressed sales.
  • Real income less transfer payments declined.  Doug Short points out that this is more important than the nominal change in real income.  Here is his crucial "big four" chart where he monitors the indicators followed by the NBER in dating recessions.


  • GDP growth was disappointing.  (Yes, the opposite of the entry in "the good."  This is the viewpoint of Prof. Hamilton, who is not prone to spinning data to fit an agenda.  Here is his take and a key chart:


The Ugly

Sandy.  Enough said.

The Indicator Snapshot

  It is important to keep the current news in perspective. My weekly snapshot includes the most important summary indicators:

The SLFSI reports with a one-week lag. This means that the
reported values do not include
last week's market action. The SLFSI
has moved a lot lower, and is now out of the
trigger range of my pre-determined
risk alarm. This is an excellent tool for
managing risk objectively, and it has
suggested the need for more caution. Before
implementing this indicator our team did
extensive research, discovering a "warning
range" that deserves respect. We identified a reading of 1.1 or higher as a place to consider reducing positions.

The SLFSI is not a market-timing tool,
since it does not attempt to predict how people will interpret
events.  It uses data, mostly from credit markets, to reach an
objective risk assessment.  The biggest profits come from
going all-in when risk is high on this indicator, but so do
the biggest losses.

The C-Score is a weekly interpretation of the best recession indicator I found, Bob Dieli's "aggregate spread."

Bob and I recently did some videos explaining the recession
history.  I am working on a post that will show how to use this method.  Bob and I are meeting again this week to facilitate this. 
As I have written for many months, there is no imminent recession
concern.  I recently showed the significance of by explaining the relationship to the business cycle.

The ECRI recession call is now over a year old.  Many have forgotten
that at the time of the original prediction, the ECRI claimed that the
recession was already underway by September of 2011.  See New Deal Democrat's carefully documented discussion, including the original video, at the Bonddad Blog.

RecessionAlert offers a free sample report.  Anyone following them over the last year would have had useful and profitable guidance on the economy.

The most recent news from the ECRI states
that they are "Assessing the Current Optimism."  This is apparently available only to paid subscribers, the ones who had early access to the 2011 forecast.

The public will await this report with some interest. Meanwhile, their WLI has turned higher, which everyone following their
data sees as good news.  Maybe it is time for them to "predict" that
the recession will end within the next few months!

Readers might also want to review my new Recession Resource Page, which explains many of the concepts people get wrong.

Indicator Snapshot 102912

Our "Felix" model is the basis for our "official" vote in the weekly Ticker Sense Blogger Sentiment Poll.
We have a long public record for these
positions.  This week we shifted to a bearish position, but it was a pretty close call.
These are one-month forecasts for the poll,
but Felix has a
three-week horizon.  Felix's ratings have continued to drift lower. 
The penalty box percentage measures our confidence in the forecast. 
That indicator has moved to the top of the range, indicating little confidence in the current bearish rating.  It has been a close call over
the last few weeks.

[For more on the penalty box see this article.
For more on the system
ratings, you can write to etf at newarc
dot com for our free report package or to
be added to the (free) weekly ETF
email list.  You can also write
personally to me with questions or
comments, and I'll do my best to answer.]

The Week Ahead

This week brings a little economic data.

The "A List" includes the following:

  • The employment situation report (F).  This is the big news of the week, especially given the brouhaha over last month's decline in unemployment.  It has now been confirmed that despite Sandy, the report will be released on schedule.
  • Initial jobless claims (Th).  Continuing strong interest after the results from the last three weeks.
  • The ISM index (F).  An important economic read for most observers.

The "B" List" includes these entries:

  • Personal income and spending (M).  Reported on Monday despite Sandy.  Better than expected on spending.
  • ADP private sector jobs (Th).  I respect this as an alternative employment methodology.
  • Consumer Confidence (Th)).  The Conference Board moved the release because of Sandy.
  • Case-Shiller home prices (T).  Released on schedule, and showing improvement.

Most important will be many more earnings reports from a wider variety of sectors.  Some of these reports were delayed from the Monday-Tuesday time frame.  We also will have the Chicago PMI, auto sales data, and some Fed speeches.

Trading Time Frame

Felix has shifted to a bearish posture. It has
been a close call for several weeks, but it is now turning more negative.  Felix
has done very well this year, becoming
more aggressive in a timely fashion, near the start of the
summer rally.  Since we only require three buyable sectors, the
trading accounts look for the "bull market somewhere" even when the
overall picture is neutral.  The ratings have moved lower again this
week.  While inverse ETFs have higher ratings than the broad market, everything is in the penalty box.  This means that we continue with no position.  Felix can go short (via the inverse ETFs) if a downtrend continues.

Investor Time Frame

Each week I think about the market from the perspective of different
participants.  The right move often depends upon your time frame and
risk tolerance.  Individual investors too frequently try to imitate traders, guessing whether to be "all in" or "all out."

The traders (including Felix) are getting more cautious for a variety
of reasons.  Some are trying to lock in profits to earn their bonuses. 
Investors face a completely different problem.

Most people are not very agile in "chasing" a big move.  They instead engage in a sort of wishful thinking that leads to bad decisions.  If a stock declines they wish they had sold.  Instead of treating each day as a new beginning, they watch to see if the stock regains the old price.  Then they sell!  On a logical basis, selling when a company has generated success is probably wrong, but that is psychology at work.  This is part of the reason for not trying to time the market at these inflection points, especially with your entire account.

I'll go into this more deeply next week.

We have collected some of our recent recommendations in a new investor resource page
— a starting point for the long-term investor.  (Comments and
suggestions welcome.  I am trying to be helpful and I love feedback.  We
have a good discussion going on bonds versus funds, and I plan a
separate article that will provide a further forum.)

Final Thoughts on the Homestretch

In the last few weeks I have noted that we were entering the season of fear.  There
has been a change in tone, with little response to good
news.  Stocks have done poorly despite improved economic data.

When the overall earnings story is mixed, we can expect many executives to present a
downbeat outlook.  There is little reason to make bold predictions. 
Executives can be cautious, citing problems in Europe, China, and

I see continuing evidence that businesses are cautious while waiting for a resolution to the "fiscal cliff."

In a few days, there will be a lot less uncertainty.  Markets hate uncertainty — and so do businesses.

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  • scm0330 November 1, 2012  

    Jeff, a comment and a few questions. The earnings calls this quarter have included an awful-seeming nummber of job cuts and restructurings. This is “Bad,” it seems. We have a demand problem in the economy.
    Could you elaborate a bit on how you use forward earnings in assessing opportunities? I think, at present, there’s a pretty wide gap between bottom-up (analysts) and top-down (strategists) forward estimates for the SP500. Is one estimate set more valuable to you in your work? At any rate, since forward estimates are almost always higher than trailing (and almost always ratchet lower as a year unfolds), I am wondering what is their overall utility in your market work? What do forward estimates reveal to you?

  • oldprof November 1, 2012  

    scm0330 — Job cuts are always chunkier, more visible, and more newsworthy. There are 7.5 million new jobs every month, and you don’t hear about most of them.
    In terms of forward earnings, I look at the earnings history as well as expectations when selecting stocks. This is more important than an overall market opinion.
    But there is interest in market valuation and earnings trends. I have demonstrated that bottoms-up analysts are the best source for one-year predictions, a useful time frame. The top-down guys pontificate about “headwinds” and have only rough models for adjusting. Most pundits do even worse. None of them have a measurable record.
    More here: https://www.dashofinsight.com/a_dash_of_insight/2010/10/profiting-from-forward-earnings-estimates.html
    Good question — and probably time for me to do an update on this.

  • scm0330 November 1, 2012  

    7.5 million new jobs a month? That’s 90 million annually. Our employed workforce is 143 million or so. That would mean the average job in the economy lasts 19 months…I know things are bad, but that bad?

  • oldprof November 1, 2012  

    scm0330 — sorry — I meant per quarter.
    Thanks for catching.

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